I’ll Pay Cash

By | November 16, 2007

Expanding on Lack of CapitalExpanding on Lack of Capital from an earlier post, the question remains “Why pay cash?”

The truth is, while money is “cheap”, paying cash is like digging an early grave. From the bank’s perspective, if a customer has a low 4 figure bank balance and is asking to borrow a moderate 5 figure sum, the applicant will either be denied or the rate will be higher, and here’s why.

Technical- Lenders want to see that any company applying for a loan earns enough money to meet payroll, cover fixed operating expenses, and comfortably make timely payments on a new equipment loan or lease. While there are a number of ways to define cash flow, lenders most often calculate the cash flow available to repay new debt as net profit plus such non-cash expenses as amortization and depreciation.

Real Life- Let’s bring this closer to home. If you were considering loaning money (say $50,000) to either Gary or Paul you would first want to make sure that both were going to be in a position to pay you back. For arguments sake let’s say that on the outside Gary and Paul lived identical lives, made the same amount of money, lived in the same neighborhood, drove the same car, and so on. The primary difference between the two of them was that Gary paid cash for everything he owns, and Paul responsibly financed his lifestyle. If you are looking through bank statements for both parties, Paul has well over the amount he is trying to borrow, where as Gary has next to nothing.

Paul has managed his lifestyle through small monthly payments, while Gary has emptied his cash savings into each purchase he has made. When the time comes to finance, not only has Paul built up a credit reputation (covered at a later date) of on-time payments, but has cash in the bank for emergencies; Gary has neither.

Consider that to a lender each loan is an investment, and that investment has to make sense. Paul, in this situation, is borrowing money to continue improving his life; whereas Gary is now in a position (short on cash) to borrow money to stay ahead of day to day necessities. There is a reason you will never see a bank classified as a non-profit entity; and for that reason, Paul is the better investment.

Cliff Notes- Paying cash is not 1, but 2 nails in the coffin. Financing when cash is not a concern not only helps build necessary credit for future use, but also keeps you ahead of the curve. Financing should not be your last resort, but a beneficial tool that should be used to help grow your business or lifestyle from the foundation.